Investment Operations

Emerging East Asia Bond Market Expands But Concerns Persist

Asian Development Bank's Chief Economist Yasuyuki Sawada

Investor sentiment toward emerging East Asia’s local currency bond markets has improved but there are persistent concerns about financial stability in the region, including ongoing trade conflicts, according to the Asian Development Bank’s (ADB) latest issue of the quarterly Asia Bond Monitor.

At the end of 2018, there were $13.1 trillion in local currency bonds outstanding in emerging East Asia, 2.4% more than at the end of September 2018 and 11.9% more than at the end of 2017.

Yields have fallen while foreign holdings have increased in most markets. Overseas investment in local currency bonds in the People’s Republic of China (PRC) bucked the regional trend, however. The share of foreign holdings in the PRC market fell to 5.0% at the end of December 2018 from 5.1% at the end of September, reversing a rising trend seen since 2016, as the pace of US interest rate hikes looked set to slow and amid a depreciation in the Chinese yuan.

“Risks to financial stability in emerging East Asia have receded somewhat recently,” said ADB Chief Economist Mr. Yasuyuki Sawada. “However, some uncertainties persist, notably from the unresolved trade conflict between the PRC and the US, a potentially disorderly exit of the UK from the European Union, and slowdown of global growth momentum. The rapid buildup in private debt during the past decade could also damage economies and financial stability in the region.”

The wave of financial volatility that unsettled emerging markets last year has subsided in recent months. Vulnerable markets such as Argentina and Turkey are showing signs of stability. A major factor behind the stabilization of emerging markets in Asia and elsewhere, evident in stabilization of their exchange rates, is the expected moderation in the pace of interest rate hikes by the US Federal Reserve. Notwithstanding such positive developments, ongoing global trade tensions and other major downside risks mean that global uncertainty remains elevated.

The PRC still had the largest local currency bond market in emerging East Asia at the end of 2018 with $9.453 trillion in bonds outstanding, 72.2% of the region’s total. In Asia overall, only Japan’s is bigger at an estimated $10.668 trillion.

Emerging East Asia comprises the PRC; Hong Kong, China; Indonesia; the Republic of Korea; Malaysia; the Philippines; Singapore; Thailand; and Viet Nam.

In a special section, the report noted the potential for the development of markets for green bonds, whose proceeds are used for environment or climate financing. Issuance in the region between 2016 and 2018 has been led by bonds denominated in Chinese yuan, which made up 46% of emerging market green bonds issued. Green bonds denominated in Indian rupee made up 2% of the total.

Another section noted that debt tends to be more expensive in markets with greater vulnerability to climate change. Higher debt costs mean projects to mitigate the physical impacts of climate change are also more costly.